WisdomTree: India Election Spurs Gains: How to Best Participate

The landslide victory in the Indian elections by Narendra Modi and his party has garnered much attention. Newly elected Prime Minister Modi is described as a self-made man who broke through the dynastic rule of the Gandhi party to raise India’s hopes. Modi ran on a slogan of “less government and more governance”—and he brings expectations of unlocking India’s vast economic potential.

The Indian stock market began to anticipate a Modi victory and climbed to new highs in May as a result.1 Yet the Indian rupee is still well off its highs, so Indian exchange-traded funds (ETFs)—which inherently contain exposure to both the local stock market and the currency—still have to gain over 25% or more before they reach the previous highs set in November 2010.

As investors look to position themselves for the improved sentiment Modi has brought to India, the following are key considerations for investment vehicles offering exposure to India:

• Breadth of coverage: The WisdomTree India Earnings Fund (EPI) has 170 holdings2, and WisdomTree believes it is the broadest and most representative representation of the Indian markets available in the ETF structure. Many of the other India-focused strategies are large cap in nature and only include 50 to 70 stocks in them. These large-cap-focused strategies can miss out on the mid- and small-cap segment of the Indian markets, which typically are more sensitive to changes in the prospects for the Indian economy, which has suffered from depressed valuation and is now benefiting from the improved sentiment brought on my Modi’s election.

o Only 31 of the companies in EPI would be considered large cap—stocks with a greater than $10 billion market cap—while 70 of the stocks are between $2 billion and $10 billion, and another 69 are smaller capitalization and have less than $2 billion in market cap.o The smaller-capitalization stocks were also the cheapest: the above-$10 billion stocks had a 14.2x price-to-earnings (P/E) ratio, while the small-cap segment’s P/E ratio was only 11.0x.3o Traditional indexes for India, such as the MSCI India Index or the Nifty Index, have roughly no exposure to this small-cap segment and less exposure to the mid-cap segment.4

• Local Economy Focused: Mid-and small-cap stocks have reacted the most in 2014 on the hopes for Modi’s election. Last year large-cap technology stocks did really well on the back of the weak rupee, which helped exports.5 But in 2014 the more local economy, rupee-sensitive sectors and small caps are doing well, leading to stronger gains for EPI than for most traditional (large-cap) indexes.6

• Industrials have led the market up this year, returning over 60% during the period. Financials and Energy, the two largest sector weights in EPI, were both up over 40% through the end of the period. This is a direct reversal of last year’s disappointing performance.• The Information Technology sector, which led the market in 2013 based on the weak rupee, was negative during the period on a stronger rupee. EPI’s under-weight position in that sector had been one of the contributing factors to its performance during the period.• Consumer Staples, viewed as a more defensive sector and also which performed quite well in 2013, lagged the broader gains present in cyclical sectors over the most recent period. EPI’s under-weight to this sector also contributed positively to performance through the period.